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KARACHI: The illicit market of cigarettes in Pakistan accounts for about 40 per cent of total demand, which is putting the tobacco industry under pressure and costing 45pc loss in terms of the Federal Excise Duty (FED) collection, said a report released recently by the State Bank of Pakistan (SBP).

It said the decline in food production was mainly concentrated in the cigarette segment where a substantial increase in the FED in the 2016-17 budget not only affected production, but also encouraged demand for smuggled and counterfeit products.

“The presence of a large, informal sector undermines the viability of the legitimate players in the industry and is one of the major factors in discouraging both domestic and foreign investment,” said the SBP report.

It discussed the challenge being faced by the legitimate cigarette industry in Pakistan in view of an increasingly dominant illicit segment.

“The tobacco industry in the formal sector is facing immense competitive pressure due to exponential growth of duty-evaded segment,” said the report.

Specifically, the price increase due to a higher FED in the federal budget means cigarettes that have successfully evaded the excise levy are far cheaper and thus more in demand compared to the tax-paid brands.

As a result, not only the sale volumes of the legitimate and tax-paying segment of the industry are facing a decline¸ the government is also losing its revenues.

The government has enhanced the FED on cigarettes in two stages. During the first stage that lasted until Nov 30, 2016, the excise duty was fixed at Rs4,000 per thousand cigarettes. This rate increased to Rs4,400 in the second phase that started from December 1, 2016.

“The FED on cigarettes declined to Rs5.5 billion in the first quarter of 2016-17 from Rs10.1bn in the same quarter of the last fiscal year,” said the SBP.

According to the report, the tax evasion on cigarettes generally takes one of the three forms. One, on the import for the commercial use (also known as international transient brands) on which applicable taxes include duties, excise and sales tax. These products may have had no taxes paid on them at all or may have had lower taxes paid.

Two, the undeclared local production or duty-non-paid (DNP) products are produced and consumed but without the payment of local taxes. These products may be manufactured in approved factories but not declared to the authorities. Or these may be manufactured in an informal setup.

Lastly, counterfeit products that are also an infringement of Intellectual Property Rights (IPR).

“These products are identical or near-identical copies of a genuine branded product. By definition, such products are illegal, as the manufacturer is not authorised by the brand owner to use the counterfeited brand assets. Counterfeits may be produced for the local market or exported,” said the report.